Larry's VC View is the bi-weekly blog by photonics entrepreneur and budding venture capitalist Dr. Larry Marshall who shares his thoughts and reflections on the VC scene, as he makes the transition from serial entrepreneur and engineer, to Venture Capitalist. He hopes to share his experiences, lessons and mistakes with fellow entrepreneurs seeking venture funding.

Tuesday, May 26, 2009

So there is a feeling of light at the end of the tunnel at present, some even have a "phew, its over" kind of feel. The Open Table IPO with its 60% rise made Rosetta Stone not just a flash in the pan, and the market is sensing that maybe it's not as bad as we thought. This reminds me of 2002 when the Nasdaq had collapsed from over 5,000 to around 3,400 and we all dived back into the market thinking it was just an adjustment, then over the following months it slowly but surely slid all the way down to 1300 ...

I don’t think that is happening here, i.e., the “dead cat” bounce, but it's going to be very rocky when Q2 and Q3 numbers come out and are pretty flat. I think the market has gotten ahead of itself. There are some positive indicators; FAB utilization is flat to up slightly in some niches, and generally slowing to flattening in the broader market. The real estate market has stopped collapsing and seems to be stabilizing after an average 40% loss; sales are moving again and not just foreclosure driven short sales. But a lot of this is because interest rates have moved so low. This looks like a long slow flat, not a recovery. There is an economic theory that predicts a massive recession in 2012 and I’m wondering if this was just a test; it's astounding how quickly the markets can unravel and it feels like the sky is falling in.

The underlying economic problems have not been solved here--there is a massive imbalance of trade, deficit, and the US dollar is being artificially propped up as a reserve currency. We are printing money to feed stimulus which should lead to substantial inflation but instead interest rates are falling again due to artificial pressures to try and stabilize the housing market. There are a lot of VCs here who badly need exits, there is a backlog of companies, and the rest of the financial services industry badly needs the work ... this could restart the engine and drive confidence.

If this happens I think we should take advantage of itwhile we can and try to raise funds sooner rather than later--despite brutal terms I’m sensing regaining confidence here or at least greed overcoming fear again. My concern is that this will all be short lived because the fundamentals haven’t actually been fixed, and we will see another crash or a continuation of the current one ...

So for entrepreneurs, don’t rush out expecting great terms again, you’ll get creamed--but perhaps this is hope to hang in there and don’t give up on getting funded just yet. What’s good about any recession is that it highlights a bunch of genuine pain points in the system and true entrepreneurs jump in to fix them; their customers are more receptive because they badly need the fixes and this tends to get the ecosystem moving again. Even VCs can help ;-)

What’s interesting is that VC focus gets shifted away from incremental changes to order of magnitude changes--i.e., a solar company in a bubble would have been funded if they could increase efficiency by 1%, but now its gotta be 10% ... but the solar ecosystem badly needs all these incremental improvements because there are a lot of (little) inefficiencies that together add up to a lot. What’s truly great about entrepreneurs is that despite the reluctance/fear/inability for VCs to share/fund their vision, they somehow, someway get through, keep the company going and flourish in the recovery (some even in the downturn).

The key for the ecosystem is for exits to start happening again, especially the big splashy IPO kind, because then the VC LPs will start believing in the VC model again and funding the VCs, and then they will fund you. I’m writing another blog about the (much needed) culling of the VC industry, assuming I don’t get culled ;-)

Monday, May 4, 2009

Despite the temptation of saying, yet again, it’s the worst I can remember, I’d really rather focus on the positive. Besides, as is known by anyone who served in the military, the human body fortunately has no long-term memory of pain (or pleasure for that matter, more's the pity ...).

Remembering waking up one September morning in California to the radio saying something about a plane accident, and later getting a call from a Buddy in DC working at the Pentagon ... its hard to imagine anything worse than that. For sure in Silicon Valley we were plunged into Tech nuclear winter--you couldn’t fund a gold mine let alone a tech startup. But we managed to raise money and survive--and cleantech and a new generation of biotech were born out of that disaster.

Half a dozen chip companies started shipping in 2002, ramped revenues to $100M by 2004 and went public with stellar returns. Is this now worse? Sure, but it's still just part of the cycle. Having lived and managed startups through three of these things already, I was hoping I might be able to spot the next one coming ;-) fat chance! But in hindsight, when all things are clear, I can remember some common elements. First, at the top as we were unknowingly racing towards the precipice, taxi drivers, airport luggage handlers, and bellhops were giving stock tips. Everyone was in the market, and companies that probably had no right going public managed to do it. Underwriters were having a drunken orgy of fees and pumping everything they could into the market, and big hedge funds were driving the IPOs to generate stellar returns, and then shorting the stocks to profit even more on the way down--and that’s just the Australian market, which is one of the more conservative! There is a cycle of disbelief, anger and blame, endless lawsuits as shoddy underwriters try to find someone else to blame for their mistakes, audit firms fall for failing to properly report numbers, and weak BoD members are crushed because they believed what inconsistent management teams told them.

Some of the lawsuits from the last downturn are still going on. Happily the JDSU one just ended a few months back and Kevin (former CEO) emerged victorious--it’s a shame he couldn’t countersue those that drove that ridiculous claim. Anyway, one difference this time is that in addition to the stock tips, those same people were also giving property advice--a friend bought 19 properties over a two-year period. When I asked him if they were financed on full recourse loans he said “what’s that?” Frothiness shows, but the trouble is you can keep riding it as long as you are not the last one to the exit.

There is a similar pattern in recovery--we never know we have hit the bottom until about six months later. But again in hindsight, we have some clear signs--last time, as the Nasdaq tumbled from over 5,000 down to 1,400 (where it is now) it had been dropping at 100 points per day when it hit 1400 and a well known fund manager friend told me, well at least it will be all over in two weeks ... capitulation. There is a point where we all just get sick of it--even the newspapers get sick of publishing doom and gloom, and start looking for something else. We don’t care how cheap a house is in Stockton, we just aren’t going to buy it, and things stop. We take a breath, look around and amazingly the sun comes up again. We are still alive, the world still turns, and eventually we go back to work and stop worrying about it. At least 50% of any recession is in our minds--once we get sick and tired of being afraid, the engine starts again and things get better. There is also a point where greed overcomes fear again, and people start thinking that the market really is on sale and this is a once in a lifetime chance to buy blue chips at bargain basement prices.

I do think this one is bad, but it will get better, and there are some remarkable opportunities out there for all ;-)